Cypriot Euro and the Bahamian Dollar

Cypriot Euro and the Bahamian Dollar

The Cypriot Euro and the Bahamian Dollar

Thinking about the new regime of capital controls that will restrict exports of euros from Cyprus until at least May, I'm reminded of the Bahamian dollar. The Bahamian dollar is called a dollar just like the U.S. dollar. And if you go to the Bahamas, you can trade one American dollar for one Bahamian dollar no problem. Prices are posted in dollars, and if something costs $30, you can hand them a piece of paper with a picture of Ulysses Grant on it and in exchange they'll give you the item and a piece of paper with a picture of Sir Milo Butler.

But none of that means that a Bahamian dollar is the same as an American dollar. While you can spend American dollars in Nassau, you can't spend Bahamian dollars in Nassau County. Consequently, any sensible person would rather have a suitcase full of American dollars than a suitcase full of Bahamian dollars. The 1-to-1 exchange-rate peg is a myth that's maintained in part through controls on Bahamians' access to foreign exchange. One way to think about the peg is that it's a form of price discrimination. If you pay for that $30 item with American cash, you're in fact paying more for it than if you're paying with Bahamian cash. Consequently, tourists end up paying a higher price than locals, but tourists who are very thrifty or savvy can find a way to get the local price. It's pretty obvious why this might be smart public policy for a tourist hub like the Bahamas, though it does have some real hassle costs for Bahamian citizens and probably makes it hard to launch the world's next great multinational company in the Bahamas.

The analogy's not perfect, but it seems to me to be roughly similar to where Cyprus is heading with this. A Cypriot euro won't be worth the same amount of money as an Irish or Spanish or German euro, but things will be set up so as to make it quick and easy for Finnish or Dutch visitors to Cyprus to pay the same nominal price for locally produced goods as a Cypriot would. You get some of the benefits of leaving the euro and floating the currency plus some of the benefits of a monetary union at the price of some serious hassles.